–A letter you may wish to write to your political representatives and local media:
Friday, Apr 8 2011

The debt hawks are to economics as the creationists are to biology. Those, who do not understand Monetary Sovereignty, do not understand economics. If you understand the following, simple statement, you are ahead of most economists, politicians and media writers in America: Our government, being Monetarily Sovereign, has the unlimited ability to create the dollars to pay its bills.
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You may wish to send this letter to your political representatives and your local media. Let me know if you receive a response.

Dear _______________;

Can you explain why the federal deficit and debt should be reduced?

1. Is it because the federal government may have difficulty servicing its debt? No, as a Monetarily Sovereign nation (since 1971) the federal government now has the unlimited ability to pay debts of any size. Even were the federal debt to be $100 trillion, the federal government could pay off the debt in one day, by pressing a computer key, and without causing inflation. (Paying off federal debt merely is the exchange of one form of money [dollars] for another form of money [T-securities]. It does not increase the money supply.)

2. Is it because large deficits will require high taxes, later? No, there is zero relationship between federal spending and federal taxes. Were all federal taxes to fall to zero, this would not affect the federal government’s ability to spend by even one dollar.

3. Is it because our children and grandchildren will be in debt? No, our children and grandchildren are not the debtors and do not pay for previous federal spending. We are the children and grandchildren of the WWII generation, and we never have, nor ever will, pay for WWII debts. Today’s children and grandchildren are not paying for the Reagan-era debts.

4. Is it because paying the federal deficits and debt will cause inflation? No, contrary to popular wisdom, there is no historic relationship between federal deficits/debt and inflation, which actually has been caused by oil prices.

5. Is it because large federal deficits and debt will force interest rates up? No, interest rates are not set by the marketplace, but rather are set arbitrarily by the Fed, when it sets the Fed Funds rate.

6. Is it because federal deficits and debt hurt GDP growth? No, historically there is a positive relationship between federal deficits/debt and GDP growth.

7. Is it because federal deficits and debt reduce personal savings? No, historically, there is a positive relationship between federal deficits/debt and personal savings. This is because federal deficits supply the money to be saved.

8. Is it because federal deficits/debt replaces private debt? No, because federal deficits add money to the economy, they facilitate private borrowing.

9. Is it because federal spending gives government too much power? No. Federal deficits could and should support states, counties and cities, where the local governments direct the programs and the federal government merely supplies the money. This is similar to the way Medicaid is handled.

10. Is it because the U. S. government is like the euro nations, whose large deficits and debts are driving them toward insolvency? No, those nations are monetarily non-sovereign, so cannot create their currency. The U.S. is Monetarily Sovereign and can create its currency. The rules that apply to monetarily non-sovereign nations do not apply to Monetarily Sovereign nations.

11. Is it because federal deficits/debt increase the wealth gap between the rich and the poor? On the contrary, reductions in federal spending impact the poor more than the rich. Social programs and the military not only are skewed toward the poor, but occupy the largest part of federal spending. The majority of suggested budget cuts would affect the poor more than the rich.

So why is there concern about the federal deficit/debt? Because people confuse personal debt with federal debt, and think the same rules apply.

Still, what is wrong with reducing the federal budget? Here’s what: The federal government supports thousands of valuable projects that improve our lives — from Medicare to Social Security, roads, bridges, dams, food inspection, aid to the poor, housing, the military, financial oversight, product safety, medical research, scientific research, homeland security, education, energy, communication, FDIC, and on and on and on. Losing these benefits would severely impact our lives. The budget cutters claim to protect our children and grandchildren, but in reality, they punish those they claim to protect.

Further, a growing economy requires a growing money supply. Federal deficit spending is the federal government’s method for adding the money to grow the economy. All depressions and most recessions have come as a result of reduced growth in federal deficit spending.

In short, there is zero value or purpose to cutting the federal budget and thousands of reasons not to.

No nation can tax itself into prosperity, nor grow without money growth. It’s been 40 years since the U.S. became Monetarily Sovereign, and neither Congress, nor the President, nor the Fed, nor the vast majority of economists and economics bloggers, nor the preponderance of the media, nor the most famous educational institutions, nor the Nobel committee, nor the International Monetary Fund have yet acquired even the slightest notion of what that means.
Remember that the next time you’re tempted to ask a dopey teenager, “What were you thinking?” He’s liable to respond, “Pretty much what your generation was thinking when it screwed up the economy.”

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39 Responses to –A letter you may wish to write to your political representatives and local media:

Congratulations on your support for MMT. However, I think there are a couple of mistakes in the above post.

Re “1”, if it is possible to convert T-securities to cash without inflationary consequences, why do governments fund their spending with securities at all? That is, if governments can fund spending simply by printing money, why bother with securities? Interest has to be paid on securities, whereas little or no interest is paid on monetary base.

I suggest there is a simple and very good reason for securities, as follows. Where government wants to fund $X of spending from borrowing rather than tax (for given GDP) it has to persuade the private sector NOT to spend $X. And a way of doing this is to offer a “bribe”, i.e. interest. Indeed, Warren Mosler makes this point in his Soft Currency Economics article where he says in relation to his parent and child analogy, that if parents offer more interest, the children will save more business cards.

Thus if T-securities are converted to cash, the effect would be stimulatory (and probably too inflationary). But the latter is not a huge problem. The national debt would be wiped out in a very short space of time by converting T-securities to cash (as you suggest) and then, if the stimulatory effect was excessive, raising taxes. I deal with this point in more detail here: http://ralphanomics.blogspot.com/2011/04/how-to-dispose-of-national-debt-in-two.html

Re “2”, I think it is going too far to say “Were all federal taxes to fall to zero, this would not affect the federal government’s ability to spend by even one dollar.” Strikes me that if govt wants to spend $Y, it must (a la Abba Lerner) counteract the stimulatory or inflationary effect of that with some sort of deflationary effect, i.e. tax or borrowing (for given GDP).

Re. 1. U.S. spending is not funded with borrowing or with taxes. T-securities are a relic of the gold standard days, and have no function, today.

When dollars are “borrowed,” they already exist. They merely are exchanged for T-securities, which were created out of thin air, for that specific purpose. The T-securities are created and the dollars are destroyed, in an exchange of money.

To redeem the T-securities, the government creates dollars out of thin air and exchanges them for the T-securities, which are destroyed, again in an exchange of money.

Borrowing temporarily reduces liquidity and redemption restores liquidity — nothing more. There is no long term effect other than interest, which is minimal. But because of that interest, borrowing does add money to the economy.

Re. 2. You’re right about inflation, but that was not the point I was making. Read my statement, again.

Ralph, you only need to counteract inflation when there is full employment, or something close, and there are effects going both ways in bond sales/purchases. I think the US WWII policy was exactly right & very successful – lower interest rates for financiers, which should be disinflationary overall, and attractive, higher interest rates for retail non-transferrable war bond savers, which should also fight inflation.

Calgacus, I realise that “you only need to counteract inflation when there is full employment” and I realise we are not currently at or near full employment. And that in turn means we would benefit from converting SOME government debt to cash. Indeed, that is what QE is. However my hunch is that we converted the ENTIRE national debt to cash, that would be going too far: the result would be excess demand and excess inflation. Thought I can’t prove it. That’s just my hunch.

After reading a bit from you and Bill Mitchell etc. on hyperinflation, I was thinking could all these spending cuts and attempts to run a surplus actually end up causing hyperinflation?

By cutting spending in areas like education, and failing to maintain and develop new infrastucture, wouldn’t that be ultimately reducing the real productive capacity of a society, and therefore the value of it’s currency?

Admittedly I’m far from an expert and fully understanding these things. I was just thinking of the incredible productive benefits the US & the world for that matter, got from the huge government spending that developed all the technology that emerged from WWII, and the space program, and all the spinoffs that emerged from that. This blog, and my ability to respond to you so easily from the other side of the Pacific wouldn’t exist without the government spending that gave us the internet.

I only recently found your website, through a comment you posted last week at “Thoughts From the Front Line”. See, Mr. Mauldin does serve a purpose.

I am sure my question is answered in your book, which I await its arrival through Amazon. In the interim, I deduce deficit growth is achieved either through increasing the fiscal federal budget above revenue, or an increase in Treasury Securities’ interest rates. Either of which increase the growth of the deficit.

There is a third, foolish way, causing unwarranted pain. We can increase the growth of the deficit by reducing the 2012 Federal Budget, which is likely to be tried.

If reducing growth of deficit spending causes a recession, as you put forward, engineering a recession through a balanced budget, tax revenue will fall by a decrease in taxable income, and the increase in social safety-net expenditures.

I am not being flippant, although maybe I just fell down the rabbit hole. As I see it, a recession, in fact, increases the growth of the deficit.

Am I making sense? It’s a backdoor way of accomplishing what can easily, but politically impossible to do, increase the growth of the deficit.

They probably remember their first job, at the Bizarro world McDonald’s, where they paid their employers for their jobs every week. Congress has to give less money to the economy, or the employers won’t need to get the money from the paychecks their employees give them, and won’t create Bizarro jobs. Makes more sense than the usual Congressional logic. 🙂

Redeeming T-securities is an even exchange of dollars for T-securities. Both dollars and T-securities are forms of money, so the even exchange does not increase the total supply of money, though it does increase total liquidity.

My hunch is that an increase in liquidity alone is not sufficient to cause excess demand and excess inflation, particularly since there would be a reduction in federal interest payments.

I agree with you Rodger. In current circumstances “monetizing” the entire “National Debt” would imho be deflationary. There’s huge unemployment and demand gaps. Doesn’t mean it wouldn’t be a bad idea, even so, as it would be another stake in the heart of mainstream “economics” when the sky did not fall.

Were all federal taxes to fall to zero, this would not affect the federal government’s ability to spend by even one dollar.

If I were to extend that line of thought, then the US government could just keep printing money to buy any amount of healthcare, unemployment benefits, fund any amounts of defense spending, etc.

What I can infer from your various statements is that you believe that no amount of deficit spending by the government, were it to print money to cover the deficits, would cause inflation in itself. Is this a correct understanding?

No Thomas, that is not a correct understanding. There are two separate, fundamental questions in economics:

1. How much money can the federal government create?
2. How much money should the federal government create?

Unfortunately, the debt hawks confuse the two when they claim the federal debt is “unsustainable.” The federal government has the ability to sustain any size debt. That’s question #1, the answer to which is: Infinite.

The answer to #2. is: Short of the point where inflation becomes uncontrollable.

Since we went off the gold standard, inflations have not been caused by federal money creation, but rather by oil prices. During this time, the Fed repeatedly proves it knows how to control inflation (through interest rates).

There undoubtedly is, however, a point at which federal money creation could cause uncontrollable inflation. We are nowhere near that point. In fact, our greatest economic problem is lack of economic growth. So why are you worried about a problem that has not occurred for 40 years, yet have no concern about a problem that occurs every five years on average, and is occurring right now?

The federal debt does NOT need to be reduced. However, the deficit DOES need to be reduced. It is currently about 10 percent of GDP and is scheduled to remain very high due to the demographic consequences for future entitlement expenditures–social security and especially medicare. If the deficit/GDP ratio continually exceeds the growth rate of the economy, the ratio of debt/GDP will increase without limit. If continued indefinitely on such a path, debt holders would begin to correctly anticipate a future default on the debt, which would certainly occur if we stay on current path. As prospective bondholders begin to anticipate the possibility of default, they would demand higher interest rates on our bonds as compensation for risk of default. As this happens, interest expenditures by the Treasury to finance debt increase sharply, thus rapidly boosting the size of the annual budget deficit and further increasing the debt/GDP ratio. The nation thus enters a death spiral. At some point, the Treasury would be unable to find private-sector buyers for our bonds, and the Federal Reserve would be forced to purchase them. This monetization of the deficits results in rapid expansion of the money supply, leading to very severe inflation—perhaps higher than every witnessed in the U.S.

There are many fallacies about deficits and debts, some of which you point out. However, the prospects of a sovereign debt crisis in the U.S. are very real. See Greg Maniw’s op ed piece in NYTimes 2 weeks ago. This death spiral would likely occur in the next decade in the absence of will to deal with the actuarial crisis in the entitlements. It is imperative that we deal with the deficit problem as soon as the economy returns to a reasonable rate of utilization of resources—say a 6.5 percent unemployment rate.

Professor Mankiw may be a famous writer and economist, but he does not seem to understand Monetary Sovereignty (which is all too common among famous writers and economists). The notion that the U.S. may be unable to sell it’s T-secruities is laughable, simply because the U.S. does not need to sell T-securities. It does not need to borrow at all. (Why would a nation with the unlimited ability to create dollars, need to borrow dollars? Think about it.)

And anyone who quotes the federal debt/GDP ratio simply does not know what they are talking about.

Don’t waste your time attacking so many people, focus on Professor Mankiw. He’s the one who writes the economics textbook used by virtually every college student in the US. What would happen if “Monetary Sovereignty is the foundation of economics” is among his Ten Principles of Economics. Think about it.

I sent the above post as an Email to Laurence J. Kotlikoff, who according to his web site is a William Fairfield Warren Professor at Boston University, a Professor of Economics at Boston University, a Fellow of the American Academy of Arts and Sciences, a Fellow of the Econometric Society, a Research Associate of the National Bureau of Economic Research, President of Economic Security Planning, Inc., a company specializing in financial planning software, a columnist for Bloomberg, a columnist for Forbes, and a blogger for The Economist. Professor Kotlikoff received his B.A. in Economics from the University of Pennsylvania in 1973 and his Ph.D. in Economics from Harvard University in 1977.

His response was, “Paying our bills with new money will lead to hyperinflation at some point. best, Larry.”

This ignorance of Monetary Sovereignty, by even noted economists, together with the cop-out “at some point,” indicates why our nation is in such trouble.

Mr. Mitchell, I’ve started visiting your blog with some regularity because what you say is compelling. I’m a software engineer, not an economist, so I don’t have a deep understanding of all of the complexities, but I had a couple of questions that I was wondering if you could address.

1.) Are there other people like you out there? I mean, all we hear these days is that the debt must be reduced to stave off… something. But you’re the only person I’ve come across that has such contrary views. I’d like to know if there’s enough out there with this kind of opinion to form a dissenting minority. One person can be written off as a crackpot, but several makes it harder.

2.) It seems to my layman’s thinking that your entire argument rests on the danger (or lack thereof) of inflation. Just because we haven’t had hyperinflation in 40 years, doesn’t mean that it isn’t possible. Zimbabwe was a monetarily sovereign nation that had to abandon its monetary sovereignty because it suddenly printed 21 trillion “dollars” to pay off its debts and hyperinflation ensued. Now that example may actually prove one of your points (i.e. that Zimbabwe should have just continued with its debt instead of trying to pay it off), but it seems a bit of an elide to just say that just because the US has never experienced it in 40 years doesn’t mean that it’s not something we have to be concerned about. I would feel a lot more comfortable with your ideas if I could be reassured on this point. Do you have any specific posts on inflation?

There is an entire school of economics known as Modern Monetary Theory (MMT) that agrees with most of what is Monetary Sovereignty. One good site is at Mosler Economics

As for Zimbabwe, I have to laugh at the number of times Germany and Zimbabwe are mentioned by the debt hawks. You can read more about it at Giving life to a lie

Just to be clear, there is a point at which federal deficit spending could cause uncontrollable inflation, just as there is a point at which the reduction in deficits could cause a depression. We are closer to the depression than to the uncontrollable inflation.

Somehow, the debt hawks fail to mention recessions, depressions and the loss of federal spending benefits.

I agree with you, and have attempted unsuccessfully, to do as you’ve suggested. Unfortunately, Professor Mankiw has so much reputation invested in the popular myth that the federal debt and deficit are too high, he would be the last person willing to change. I suspect that when the entire world understands Monetary Sovereignty, he still will cling to his outmoded ideas.

Congress would have to “press the key,” by eliminating the law requiring the Treasury to issue T-securities in the amount of the deficit. The “debt” would be allowed to decline each year, as the T-securities matured.

The “one day” part is something of a euphemism. I wouldn’t do it in one day, only because that would violate the government’s contract with the T-security holders.

Assuming some day Congress comes to its senses and realizes that it can appropriate unlimited credits, and allows all Treasuries to retire.

1.The Fed loses a tool to control interest rates from its buying and selling Securities through its Federal Open Market Committee’s (FMOC) ability to set the Federal Funds Rate
2.Congress at any one time creates too many credits, which might increase inflation
3.Consequently, what mechanism does the Fed now us to prevent inflation?
Other consideration are:
4.The Fed uses the Federal Funds Rate to control the business cycle adjusting them down to stimulate, and up to control inflation by contracting the economy
5.Treasures are the benchmark used to set all other debt instrument’s interest rates

Responding to my original post we arrive at a scenario where Congress eliminates the law requiring the Treasury to issue new T-securities in the amount of the deficit, and then allows all existing T-securities to mature over time.

A condition eventually arrives when T-securities no longer exist, either newly created or previously issued.

The very definition of the Fed Funds rate is the result from buying and selling T-securities by FOMC’s open market operations. The Fed does this to set the Target Rate from which all other interest rates follow.

No T-securities = No mechanism to set the Fed Funds rate.

How will the Fed be able to control interest rates if T-securities cease to exist?

Rodger,
I’ve been reading your post on many of the other mmt blogs and for some reason never found my way to your book or this site. You have a gift for explaining this in easy to understand terms.

What are your thoughts on targeting a particular person in the media with a letter writing campaign. For example, I thought a good start is Bill Maher. If we could get enough intelligent comments on his blog site, we might get his attention. He clearly still thinks like a liberal, and can only see taxing the rich to afford social engineering. …I sent him a message, and borrowed one of your quotes to help make my point.

The Fed Funds target rate directly is determined by the Federal Open Market Committee. The Fed Funds effective rate is based on the market, but usually falls between the target rate and the discount rate (the rate the Fed charges banks.

In short, the Fed has controls short term interest rates, because it can bring the target rate and the discount rate to any levels it wishes. No bank will pay more than the discount rate, and rarely much less than the target rate.

My semantics might not be correct but the mechanism by which the Fed achieves its target rate, as currently conducted, is by purchasing and selling T-securities.

If T-securities cease to exist, I suppose the Fed can find an alternate tool to control interest rates. I do not posses that knowledge. I was hoping that you might offer an opinion to what that might be.

They could do it by fiat, i.e. require banks to borrow at a certain rate. However the entire subject is quite complex. Not only are T-securities unnecessary, but the Fed Funds rate refers to reserves, and on a practical basis, banks do not lend against reserves, but rather, lend against capital.

Changes in the law would be necessary to eliminate T-securities, and these changes in the law could provide or even increase the Fed’s control over interest rates — or some other entity could be given this control.